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Monday, 26 May 2014

Did we either choose for “Retreating behind our white picket fence” or for “We want more solidarity and compassion from Europe”? That is the question after the European elections 2014!

Today – May 26, 2014 – is of course the day after the elections for the European Parliament. People often call days like today “the day after the night before”...

If there is one trend that stuck out after yesterday’s elections, it is the rise of the anti-European and anti-immigration parties – especially in Western Europe: 
  • The extreme rightwing party ‘Le Front National’ of Marine Le Pen won the European elections in France before the centred conservative party UMP. The social-democrat Parti Socialiste of François Hollande was almost blown to smithereens;
  • Nigel Farage’s UKIP (United Kingdom Independence Party), an avid anti-Europe party,  became the largest party in the United Kingdom, with a considerable victory upon the Labour Party. Labour itself was trailed by David Cameron’s Tories, which became the third party in the UK;
  • In Greece, the Eurosceptical, radical Leftwing party Syriza won the elections, while the nationalist, ultra Rightwing Party Golden was also a clear winner of the elections (+9%);
  • In Denmark, the far-right Danish People’s party won the elections;
  • In Italy, the anti-European Five Star party of ex-comedian Beppe Grillo won 17 seats in European parliament, trailing only to the Democrat Party of PM Matteo Renzi;
  • In The Netherlands, the anti-European Party for Freedom is among the three largest parties, with each four seats;

In other European countries the rise of the anti-European parties was not so blatantly visible, but also there some of those parties scored remarkable results. To the objective eye, it seems that something dramatic has happened in Europe yesterday and that the anti-European, anti-immigration and anti-establishment parties in general have won the verdict.

Nevertheless, it is yet too early to see the consequences of it.

Therefore we should not jump to conclusions, with regard to the general path that the European Union should follow in the next five years. Do we all want more European integration and a Union with stronger economic and political bonds? Or do we all want less integration and a larger role for the national parliaments. The people of Europe did clearly speak, but what they exactly said is quite difficult to understand.

At least, the results of these elections lead to the following questions: are the European citizens fed up with the European Union, as an institute? Or are the European citizens fed up with the way in which the European Union is managed currently and how it handled the crisis until now?

In other words: is the EU blamed for what it is? Or for what it has done against the crisis so far?

That is something that the politicians and serious opinion makers should find out in the coming months. In the meantime, I am happy to give my personal opinion upon this subject. I still strongly believe in the European Union and in the Euro…

Every reason for the formation of the (predecessors of the) EU during the fifties and sixties of last century and for the introduction of the pan-European currency, is still as valid today as it was in those days:
  • The desire to make an end to destructive nationalism and to the multi-century tradition of pan-European wars and conflicts between the large (and smaller) nations of Europe;
  • The idea that the German empire had to be controlled and embedded in a pan-European safety net;
  • The idea that friendship and cooperation between countries was a better breeding ground for mutual prosperity than wars, conflicts and aggressive competition;
  • The desire for stability within Europe: from a political, financial and economical point of view;
  • The idea that a united Europe would be a stronger and more impressive adversary against the United States, Russia and the East-Asian countries Japan, South-Korea and China than a Europe-of-individual-countries that could be ‘divided and conquered’;
  • The idea that a multi-national currency would improve cooperation and mutually beneficial trading relations within Europe.

Who can argue with the fact that these ideas are still utterly valid?! And that the concept behind the European Union is still a very viable concept that is worth fighting for!

Nevertheless, the European Union that most people have remembered from the last five crisis years, has been the Europe of the 28 frogs in a wheelbarrow.

The indecisive and hopelessly divided Europe, that was whining about fiscal prudence and the need to stick to the budget – as this was relatively easy to achieve and by itself undisputed among most members – and that was chasing pseudo-solutions, but failed to address the economic problems of some of the individual member states and its desperate citizens.

The Europe, which was governed under influence of the wishful thinking, that fiscal austerity would melt away all economic problems, like an icecone in the sun.

A Europe, in which the German political and financial dominance, the British repulsion and doubts about its membership and the French desire for avoiding the hard decisions at its home turf, decided upon the agenda and the measures that could be taken to solve the economic crisis: an agenda in which less… was just less and not more…

And a Europe in which corruption, corporate and private egoism and widespread tax evasion still played a much too prominent role.

These backgrounds all spurred the resentment against the current European Union, as a spineless and powerless institute that kicked the can down the road with respect to the crisis and scared away from solutions that really mattered.

In my opinion, four main causes can be identified for the poisonous cocktail that emerged after yesterday’s European elections:
  • The fact that the credit crisis and especially the Euro-crisis have been treated as financial crises alone. There has been an unhealthy fixation upon the well-being of the banks and the financial markets, as well as the soundness of the European budgets, while the economic consequences of this fierce crisis for the European citizens in all countries have been largely ignored;
  • The rise of (sometimes very locally oriented) nationalism and groupthinking in Europe, which is an inevitable effect of the deep and violent economic slump that we are in. Somebody has to be blamed for this crisis and – of course – that somebody is neither me nor my group of people!
  • The national politicians from the 18 Euro-group countries and the 28 EU-countries – who combinedly form the European Council, as most influential European institute – have blamed Europe and especially the EU for their own (national) misfortunes, while bragging upon their successes in Europe and claiming those for themselves;
  • The most visible European Leaders (i.e. Jose Manuel Barroso, Herman van Rompuy and Catherine Ashton), the European Commission and the European Parliament have done much too little to defend their sheer existence, while their democratic void, their craving for the introduction of new (sometimes erratic) regulations and their blatant squandering of tax-money – take f.i. the presence money, the extravagant expense allowances or the monthly excursions to Strassbourg (!) – drove the European citizens to madness.

Yesterday’s elections should be the final wake-up call for ALL European leaders that something has to change within Europe and the European Union. However, that ‘something’ are not necessarily the goals and the ‘raison d’etre’ of the European Union itself.

Every politician – and as a matter of fact every European citizen – should ask himself in what kind of Europe he wants himself and his children to live.

Does he want to live in a “Europe-as-a-slot machine”? A Europe, where solidarity means that one claims as much European subsidies and structure funds as he can, in order to make Europe profitable for him and his country?!

Or does he want to live in a narrowminded “Europe-as-an-economic-market”, where the benefits of the union stop at the lock of his national treasure chest?!

Does he perhaps want to live in a Europe where all borders are closed again and where everybody is retreating behind their white picket fences?! A Europe of mistrust, anger and envy against the people with whom we share our lives and our European continent?!

Or does he wants to live in a Europe, in which 28 (or more) countries live together in relative peace, cooperation and prosperity. An increasingly democratic Europe in which countries help each other and in which problems are solved: very slowly, but surely. And a Europe with sensible leaders of whom people can be reasonably proud, because they represent us all quite good.

Not a German Europe, a French Europe, an Italian Europe or a British Europe, but a pan-European Europe in which every citizen and every country is equally important and equally represented. 

I know in which Europe I want myself, my wife and my children to live!

Friday, 23 May 2014

State bureau Energy Management Netherlands (EBN): “If The Netherlands wants to maintain its current proceeds from gas exports, it should scale up its small field exploration and start exploration of shale gas fields”

A few months ago, I wrote an article about the Dutch ‘addiction’ to its natural gas proceeds (€15 billion in 2013).

This addiction has been so substantial during the last 45 years and it presumably had such a negative influence on Dutch productivity, the manufacturing industry and the general appetite for innovation, that the economic science invented the expression “Dutch disease” for it:

…from the second half of the sixties on, the NAM (Dutch Oil Company; the official explorer of the Dutch gas) drilled themselves dizzy and the Dutch gas production soared to no less than 95 billion cubic meters in 1976 (see the following chart).

The proceeds from the gas drilling in the seventies and eighties were so high that they led to a rockhard Dutch guilder, but at the same time also to enormous inflation rates and massive interest rates of 12% and higher.

These circumstances killed productivity and industrial production: people called this phenomena ‘stagflation’ and the Dutch Disease became a known concept in the whole economic world.

You could state that the same what happens now in Russia with the proceeds of Rosneft and Gazprom, happened in The Netherlands during those days.

Yesterday, the State Bureau for Energy Management Netherlands (i.e. EBN) wrote an ‘alarming’ report: the Dutch state, as well as companies exploring the Dutch gas supplies, should all scale up their exploration of the Dutch small gas fields [the only large gas field in The Netherlands is the ‘Groningen’ field.  This is the eighth biggest gas field in the world – EL]. This is necessary in order to maintain the gas production in the years 2019 and further at a similar level as today. The exploration of Dutch shale gas fields is explicitely included in this scenario, in spite of the political and public controverse around this subject.

Here is an extensive summary of this must-read report (available in English):

This year’s Focus on Dutch Oil and Gas reviews the status of the Dutch E&P (Energy & Petroleum) industry.

Table with the Dutch gas and petroleum reserves,
based on the Petroleum Resources Management System (PRMS)
Table  courtesy of: EBN
Click to enlarge
The Dutch onshore and offshore reserves and resources are still large, but declining.

Increased effort and further optimisation are required to minimise the decline in production, in the form of higher investments in exploration and wider applications of new technology.

Over the past two years, the Dutch E&P sector has seen a small decline (2.5%) in annual gas production from small fields. Production from the licences in which EBN participates was only 0.4 BCM lower in 2013 than in 2012, while the amount of produced condensate even increased. The small fields reserves base (PRMS categories 1, 2 and 3) fell by only 6.3 BCM.

Despite these relatively positive signs, the long-term outlook has changed considerably compared to that published in the 2013 edition of Focus on Dutch Oil and Gas. In the past few years, replenishment of reserves has relied mainly on gas being transferred from the contingent resources categories (PRMS 4, 5 and 6) to the reserves categories (PRMS 1, 2 and 3).

Thanks to new technologies and favourable gas prices, Dutch operators have been able to identify increasing opportunities within existing fields and discoveries. Many operators have recently announced plans to start developing long-stranded fields or to push the ultimate recovery of producing fields to even higher levels.

Risked production forecast small
fields gas production
Chart courtesy of: EBN
Click to enlarge
There are signs, however, that the underlying growth needed in the contingent resources categories is flattening out, while the numbers of exploration wells and exploration successes in the Dutch E&P sector were both lower in 2013 than required to slow down, let alone halt, the annual decline in production.

Assuming the operators’ exploration efforts in recent years to be representative for future exploration activity levels, the annual future gas production in a ‘business as usual’ (BAU) scenario will fall faster than previously forecast.

In previous editions of Focus on Dutch Oil and Gas, EBN assumed that operators holding the most prospective acreages would increase their exploration efforts. If this does not materialise, EBN expects a lower contribution to the forecast from yet to be discovered fields. EBN will therefore continue encouraging operators to aggressively explore their own acreages, while also being committed to encouraging exploration beyond established play boundaries, and promoting a favourable Dutch E&P climate.

The latest BAU forecast represents a scenario in which the project portfolio permits maintaining a plateau production level of 28 BCM for the next five years. After that, the decline will resume, unless investments are made in onshore and offshore exploration to unlock further traditional and also more challenging resources, such as tight gas and shale plays.

The ‘upside’ scenario relies heavily on these latter resources. It is vital to mature these plays if the Netherlands wants to avoid a rapid decline in gas production within the next decade.

Dutch natural gas consumption
and production scenarios
Chart courtesy of: EBN
Click to enlarge
However, 2013 saw no major breakthroughs in the development of tight gas fields, while political and societal opposition has pushed potential shale gas development even further back in time. EBN nevertheless expects both shale and tight gas to become increasingly important in the coming two decades.

Despite active exploration, the Dutch small-fields onshore and offshore reserves and resources base is declining. The average reserves replacement ratio for on- and offshore fields is well below 100%.

Small fields reserves after production
and added reserves
Chart courtesy of: EBN
Click to enlarge
Since offshore reserves comprise 63% of the total reserves, maturation of offshore contingent and prospective resources into reserves is required to maintain the offshore fields’ sizeable contribution to production and reserves. This requires substantial additional investments in exploration and production activities.

On average only one third of the cash flow generated from E&P activities in the Netherlands is reinvested in new Dutch E&P activities, while the remainder is invested elsewhere in the world or paid out as dividend. The worldwide reinvestment ratio for major E&P operating companies in the past two years was approximately two to three times higher.
Consequently, there certainly seems scope for a higher investment level in the Netherlands.

In the ‘business-as-usual’ scenario, a further 45 BCM can still be produced from prospective resources in 2050. This estimate is based on currently identified projects and excludes prospects yet to be defined. However, timing is crucial, especially offshore. The risk of offshore infrastructure disappearing in the near future is driving the urgency for exploration.
Encouraging timely exploration activities is consequently one of EBN’s key missions.

Increased throughput of installations and cost-effective tail-end production are becoming progressively important in order to defer abandonment. A side effect of extending production, is the fact that this will also allow deferring the costs of abandonment, currently estimated at around €5 billion.
The Netherlands is a net exporter of natural gas and, based on the current levels of domestic gas consumption, will be able to remain self-sufficient for at least another decade to 2025. If the upside scenario materialises, this might be stretched to 2030.

In addition to self-sufficiency, the proceeds from natural gas strongly contribute to Dutch State revenues. Domestic production contributes to a sustainable energy supply because imported gas supplies, such as LNG shipped from Algeria and pipeline gas from Russia, cause considerably higher greenhouse emissions than domestic production.

A total of 85% of the existing gas fields in the Netherlands are producible by conventional technology. Although the remaining Dutch small-fields portfolio is categorised as tight, these fields can also contribute to a sustainable energy supply, particularly if the recovery factor can be increased. With many gas fields approaching their end of field life, the Netherlands is generally seen as a mature, but attractive gas province.

The report argues (justifiably) that the exploration and sales of Dutch natural gas is more environmentally friendly than importing the gas from Russia, Algeria or the United States.

Despite that argument, one could argue that the exploration of the Dutch natural gas has not only been positive for the Dutch economy and population during the last 50 years; even if the causes and the consequences of the Dutch disease will be left out of the equasion.

Dutch gas production
including Groningen
Chart courtesy of: EBN
Click to enlarge
As this chart shows, there has been an increasing interest of the Groningen field in the recent Dutch gas production. This interest, however, is colliding with the needs of the inhabitants of the Dutch province of Groningen, as these people have to deal with a soaring number of earthquakes in their province: a palpable result of the Dutch natural gas exploration.

Of course you can argue that you can’t bake an omelet without breaking an egg: especially in the gas exploration. However, when this ‘egg’ means that your property and that of your neighbours becomes too dangerous to live in, due to the increased risk of earthquakes, this is a high price for people to pay in a small, densely populated country, like The Netherlands.

And there is more: one of the techniques mentioned in the report, as a means to increase the gas yields from small fields before their end-of-field-life, is ‘foam injection’.  As the report already states itself, this technique – as well as the usage of other chemical agents in gas production – is not exactly environmentally friendly:

Modern production technologies, as well as the need to keep ageing installations in operation, require increasing quantities of production chemicals such as corrosion inhibitors, foaming agents and kinetic hydrate inhibitors.

In combination with condensates, these chemicals tend to form emulsions, which are increasingly difficult to handle. The legally permitted water-over-board quality limit of 30 ppm aliphatic hydrocarbons is, in many instances, difficult to achieve. It is often more cost-effective to inject the produced water into dedicated water-disposal or converted production wells.

Also the large scale production of shale gas requires a massive deployment of polluting chemical agents. These agents are used for the ‘multistage hydraulic stimulation’ (aka fracking) that is necessary to explore this gas in a profitable manner. Massive usage of chemical agents could harm the Dutch ground and surface water reserves, which are of vital importance for The Netherlands.

All these issues raise the question whether The Netherlands should remain striving for a leading role in the European gas (and petroleum) production.

During the next 15 years, The Netherlands can still remain a net exporter of gas, when the exploration of the small fields and shale gas fields runs as planned (see the aforementioned chart of Dutch gas consumption vs production). During this time frame, the gas exports will remain a very valuable source of income for the Dutch government.

However, after 2030 The Netherlands seems destined to become a net importer of gas when everything else remains business-as-usual. This means that the inflow of proceeds from the gas exports will come to an end after all for the Dutch government. That is why - in my opinion – the Dutch government must stop burning up these net gas proceeds during the next fifteen years, ‘like there is no tomorrow’.

Instead, The Netherlands should step up its efforts in the production of sustainable energy, while at the same time looking for ways to save energy on a national scale. Despite the large-scale deployment of thermal insulation, energy-efficient household appliances and high yield heating installations in houses, as well as other energy-saving measures, the energy consumption in The Netherlands – and thus the consumption of gas and other sources of energy – has remained fairly stable during the last twenty years (see the following chart).

Energy consumption in The Netherlands
Chart by: Ernst's Economy for You
Data courtesy of: CBS
Click to enlarge
The biggest cause for this stable energy consumption in households, in spite of all energy saving measures, is (in my humble opinion) the soaring amount of electronic gear in houses: desktop computers, laptops, iPads, smartphones and game computers. This is all equipment that is in use or standby all day, while continuously consuming considerable amounts of energy.

If The Netherlands wants to reduce its annual consumption and dependency of natural gas, it should look for ways to spur austerity and energy saving, with respect to the energy consumption in the Dutch households and companies.

Otherwise, the Dutch gas proceeds will go through the chimney within 15 years, never to come back anymore…

Thursday, 22 May 2014

It is official: The Netherlands is identified as a West-European low wage country, by foreign investors. IBM consultancy said so…

During the more than three years that I publish this blog, I have had a few pet subjects.

One of these pet subjects is the continuous Dutch ‘affection’ for wage restraint as a means to rejuvenate the Dutch economy. 

While wage restraint is a very good way of keeping the costs of labour low and consequently keeping the exports up, the consequences of this policy in the long run can be devastating for the Dutch economy.

Large groups of people – especially those in the lower (middle) wage classes – who go through long years of wage restraint and sometimes even wage reduction, will slowly, but surely lose their purchase power. In order words: they become impoverished in the long run.

The consequence is that these groups of people start to consume less eventually. They spend their available money exclusively on food, daily necessities, healthcare items and durables that they can’t live without, like refrigerators and washing machines. 

As people in the lower (middle) classes are traditionally large groups in every country, this has an undeniable effect on the retail industry and also on small and medium-sized enterprises (SME), with a strong connection to domestic consumption (business-to-consumption and small business-to-business companies), especially in times of economic decline. 

After a while these retailers and SME companies start to feel the consequences of the wage restraint, as their sales revenues start to decline; sometimes this development brings these retailers even to the brink of defaulting.

And there is one more thing… When there is a time of deep economic slump and wage restraint is deployed again as the favorite weapon-of-choice, it starts to act like Hotel California of the Eagles: You can checkout any time you like..., but you can never leave!

In other words: once you started with deploying wage restraint in difficult economic times, it is almost impossible to stop with it. This is due to the following vicious circle:
  • Large groups of people, who go through long-term wage restraint, start to consume less and less;
  • Due to the diminished consumption, the sales revenues of retailers and SME-companies start to deteriorate eventually;
  • Due to their deteriorated revenues, these retailers and SME companies have to fire some of their personnel or keep their personnel under wage restraint, as there is no money available for wage increases;

In my opinion, this is one of the reasons that the growth figures of the Dutch economy are among the poorest in the whole European Union. And this, in spite of the fact that The Netherlands is the export champion of Europe (in euros of exports per capita) and, on top of that, a very wealthy and highly productive country.

Although the objective reader could argue that I am biased on this topic, I received some kind of confirmation from an unsuspicious source today: IBM consultancy.

The Dutch business news radiostation BNR broadcasted an interview with Roel Spee of IBM consultancy, about the record numbers of foreign companies that are using the Netherlands as the establishment area for their European subsidiaries. 

One of the main reasons was: the relatively low wage costs overhere.

Here are the pertinent snips of the written version of this interview. People, who master Dutch can find the whole interview in the article behind the link:

In 2013, The Netherlands has attracted a record number of 370 subsidiaries of foreign companies. This was an increase of 18% year on year. 

An analysis of consultancy company IBM, in which the global investment climate has been mapped, disclosed that this yielded many new jobs for The Netherlands.

Roel Spee of IBM: "The favourable geographical position or the infrastructure. Both are circumstances that Dutch people take for granted, but which are very important in an international context". 

Among the foreign newcomers are Action and Huawei, which open respectively a distribution center and a main office.

The subsidiaries, which were announced last year, will eventually yield 9,200 new jobs in The Netherlands, according to the investigation. Most jobs will be ICT jobs, commercial services and in the food industry. This is more than 50% above the 6,000 jobs that were yielded by the projects of 2012.

“The Netherlands only received a minor shock from the crisis, when it comes to foreign investments”, according to Roel Spee. “In the area of loan costs, the current situation in The Netherlands is more favourable than in other West-European countries, like Belgium and Germany”.

Also other factors, like the attractive fiscal facilities and the excellent infrastructure, play an important role in the choice for The Netherlands as a country to open a subsidiary, according to Spee.

There you have it in the red and bold text. It is almost as if The Netherlands received an ‘official confirmation’ of being a low wage country. Of course you can argue that 9,200 new jobs are a very good development, which could help the Dutch economy recover. 

However, the damage done by the wage restraint is larger than the positive effects of the additional jobs.

To prove my point, I have collected data from the excellent Eurostat database, in order to create a chart about this topic. 

This chart contains the indexed development of the GDP per capita since the year 2000, versus the average wage and salary development within this period.  

I collected the data from the three mentioned countries Belgium, Germany and The Netherlands, as well as from non-Eurozone country United Kingdom.

Indexed development of nominal GDP per capita
vs average wages and salaries
Chart created by: Ernst's Economy for You
Data courtesy of: Eurostat
Click to enlarge
This chart brought me to some very disturbing conclusions:
  • Until 2008, The Netherlands had by far the largest difference between the indexed development of the nominal GDP and the indexed development of wages and salaries. In other words: where the Dutch productivity soared in those years, the wages and salaries lagged enormously;
    • The same was – to a lesser degree – true for Belgium;
  • However, since the economic crisis started in 2008, The Netherlands had the worst development of the GDP per capita of all these countries. Where the nominal GDP of Belgium, the UK and Germany is already miles above pre-crisis levels, the GDP of The Netherlands is still at the level of 2007; 
    • In my opinion this could be the result of exaggerated wage restraint: it diminishes the necessity of innovation and productivity increases. In other words: companies might become lazy and self-satisfied! This could explain the poor development of GDP in The Netherlands since the start of the crisis, although I can’t proof it;
    • Also here the same conclusions seem more or less applicable to Belgium;
  • In spite of the very moderate wage development in The Netherlands since the beginning of the economic crisis, the development of the Dutch GDP has been so poor that the indexed wages currently exceed the indexed GDP per capita after all;
  • Is it coincidence, that the countries with the least wage restraint during this 13 year period – Germany and the United Kingdom – enjoyed the quickest recovery since the end of the crisis?! I dare stating that it isn’t! 

Looking at this chart, I dare to say that the wage restraint during the last 15 years is one of the causes for the enduring crisis and the lagging development of GDP in The Netherlands and also Belgium. Wage restraint is in my opinion a failed policy, which should be left behind as soon as possible. 

Unfortunately, however, the economic situation in The Netherlands has deteriorated so quickly since 2008 (the year in which the crisis started) that – as in the Eagles song – “we can check out from the wage restraint any time we like, but we can never leave”!

China and Russia sign a huge gas deal… Or, there is no such thing as ‘coincidence’ in Russia's exports policy. In spite of this deal, Russia is not home safe yet!

In the midst of the turmoil between Russia, the Ukraine and the European Union about the annexation of the Crimean region and the hostilities in East-Ukraine, there was the news that Russia reached an agreement with China about the delivery of Russian gas.

The Chinese government has signed a contract with Russia, which deals with Russian gas deliveries for the next thirty years. Although Russia’s negotiations with China have allegedly lasted for at least ten years, the news about the successful gas deal seems too favourable for Russia to be simply ‘coincidential’ in the current, tense political situation.

It seems that Vladimir Putin has raised a finger towards the West, as a warning: ‘If you want to fight an economic battle with me, it will be me who has the last laugh!’

The following snippets come from news agency Reuters:

China and Russia signed a long-awaited, $400-billion gas supply deal on Wednesday, securing the world's top energy user a major new source of cleaner fuel and opening a new market for Moscow as Europeans look elsewhere for their energy.

Russian President Vladimir Putin and Chinese counterpart Xi Jinping applauded as they witnessed the deal being signed in Shanghai between state-controlled entities Gazprom and China National Petroleum Corp (CNPC).

The deal is a political triumph for Putin, who is courting new partners in Asia as customers in Europe attempt to reduce their reliance on Russian gas to bolster their bargaining positions with Moscow after its seizure of Crimea from Ukraine.

But from a commercial point of view, much depends on the so far undisclosed price and other terms of the contract, which has been more than a decade in the making.

Industry insiders said China had the upper hand in negotiations as they entered their final phase, aware of Putin's need for new customers as his isolation in Europe intensified.

Industry estimates showed that the price of the agreement may have come in at around $350 per thousand cubic meters. The Western European average is $380.

Another potential sticking point has been whether China would pay a lump sum up front in order to fund considerable infrastructure costs.

Gazprom CEO Alexei Miller said that element of talks remained unresolved, but Putin said China would provide $20 billion for gas development and infrastructure and that the price formula was similar to the European price tied to the market value of oil and oil products.

Analysts said broader, political factors were likely to have been at play around the negotiating table.

"Given the EU sanctions that could potentially hit Russia, I don't think Gazprom is in a position to strike a very high price for its gas," said Gordon Kwan, head of Asian oil research at Nomura.

There is little doubt that this contract with China is extremely good news for Vladimir Putin, in the current political conundrum.

However, in my humble opinion, there should also be little doubt that China has fully benefitted from Russia’s awkward economic situation. According to Russian economist Evgeniy Arsyukhin – in a must-read February 2014 article in the Komsomolskaya Pravda – Russia is at the brink of defaulting.

The economic health of Russia has strongly deteriorated during the last ten years. This is caused by the ubiquitous corruption and the mindboggling waste of government money during the preparations for the 2014 Winter Olympics and other highbrow projects, like the World Championships Football of 2018.

And there is something more: while the contract negotiations between Russia and China have allegedly been finished, the gas supply itself is far from operational yet. It requires vast investments to get such a massive infrastructure of thousands of kilometers of pipelines operational. Money that Russia might not have at hand, at the moment.

This is probably one of the reasons that Vladimir Putin and CEO Alexei Miller of Russian stateowned gas company Gazprom have required (“as in politely asked or begged”) a lump sum payment from China, to cover a large share of the huge, initial expenses.

The following parts of the pipeline infrastructure from Siberia to China must yet be built (see this chart, courtesy of Gazprom):

Map of the future gas infrastructure from Russia
to China. The dotted parts are still under construction
Map courtesy of:
Click to enlarge
This whole operation will probably take at least five years and the future yields of the gas supplies to China should not be overestimated, warns Geert Groot Koerkamp of Het Financieele Dagblad:

Following expections, this operation would take five years. The first Russian gas, coming from the city Blagoveshchensk, will flow into China as early as 2020.

And even when the whole infrastructure will be operational as planned, the deliveries to China will pale in comparison with the current deliveries to Europe. For the time being the contracts with the Chinese amount to 38 billion cubic meter gas per year. However, in 2013 alone, Russia delivered 165 billion cubic meter per year to Europe.
Besides that, the existing contracts between Russia and Europe cannot be finished at will; by none of the parties involved. One of the parties unilaterally ending these gas contracts, will be seen as breach of contract, which could be penalized with billions of dollars in penalties.

To the unformed readers, it might seem that President Vladimir Putin is currently holding all the cards with respect to European gas supplies, after this monstrous gas deal with China. Putin has seemingly a deal in hand, which he can use as leverage during the future negotiations with Europe.

But don’t be mistaken: in spite of this Chinese/Russian gas deal and the continuing gas contracts between Russia and the European countries, the European economic sanctions and its diminishing dependence on Russian gas still could bring the Russian economy slowly to its knees within the next five years.

The ubiquitous corruption in Russia, the megalomaniac infrastructural projects and the gargantuous sports events will surely drain the Russian economy dry from money. And so will the faltering domestic economy, with its poor, underdeveloped manufacturing and commercial service industries, its millions of small civil service jobs and its enormous amount of human labour, where other countries already use machines, computers and robots.

During my many visits to Russia, I was always amazed how many service-oriented jobs had still been maintained there, where similar jobs had been abolished a long time ago in Western Europe: janitors, museum guards, desk clerks in banks and public offices, conductors in trams and busses, ticket sellers, guards in public places. I dare to state that an average Russian company or public service has three times the amount of personnel that a comparable Western company would have.

And when for instance a Russian woman gives birth to a child, she has the right to take maternal leave for a staggering three years, WITH job guarantee. When she will give birth to another child within this three year period, she can stay away from the job for five years or so and still claim her job back after this period. It’s really ridiculous…

This erratic economic situation can only be maintained when the gas and oil money flows in like water. But when it doesn’t anymore…?! I dare to say that when the European gas payments would be reduced within the next five years, Putin can be in for a hard battle at his own turf.

I have no doubts that President Xi Jinping of China is fully aware of this. He has without a doubt tightened the thumbscrews on Vladimir Putin: “You can become our friend and we will never complain about you or your domestic and foreign policy in international bodies, like the UN and the Safety Council. However, our friendship will not come cheaply…”. 

So Russia might have found a new option with its gas, but it is not home safe, yet…

Wednesday, 21 May 2014

FD_BNR Newsroom presents: High Frequency Trading (HFT). Is it playing by the rules or actually breaking the rules?! Remco Lenterman of IMC Financial Markets speaks upon this topical subject!

Two days ago, on 19 May 2014, I had again the pleasure of being present at FD_BNR Newsroom, the semi-live talk radio show, presented by the savvy presenter and radiomaker Paul van Liempt.

The 'mike' of BNR Newsroom
Picture copyright of: Ernst Labruyère
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The highlight in FD_BNR Newsroom was for me personally: ‘High Frequency Trading’ (HFT).  

I will publish a nearly integral coverage of the discussion (link in Dutch) at this blog, due to the importance of the subject; not only for interested private and corporate investors, that have a larger distance to the stock markets and want to know about the phenomenon High Frequency Trading. 

It is also interesting for people, who heard or read about recent rumours and accusations concerning HFT trade. Many of their questions and concerns were dealt with, last Monday, by the guests of the program.

The discussion about High Frequency Trading has become topical once again, due to the bestselling book about HFT, written by Michael Lewis: ‘Flash Boys: A Wall Street Revolt’.

Paul welcomed as guests: 
  • Remco Lenterman: CEO of IMC Financial Markets – A Dutch, globally operating HFT marketmaking company
  • Patrick FleurManager Trading & Execution at wealth manager PGGM Investments
  • Marco Groot: Column writer at Het Financieel Dagblad ( and former trader/investor
  • Corné van Zeijl: Fund Manager of SNS Dutch Stock Fund (i.e. SNS Nederlands Aandelenfonds)
  • Peter Paul de VriesCEO and owner of Value8 Investment Company 

The discussion started and ended with the meaning of the ‘flash trade’ – as HFT is called in The Netherlands – for private and corporate investors.

Paul van Liempt: Is the flashtrade a blessing or a burden?! What is its importance for private investors?

Paul van Liempt, presenter of BNR Newsroom
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Remco Lenterman: We did not make up the expression Flash Trade. Our company started 25 years ago as a ‘marketmaker’. In those days all trade was executed by hand. Our company went through the evolution from ‘floor trade’ to fully electronic trade. A marketmaker deploys bid prices and offer prices at the stock exchanges (i.e. purchase prices and sales prices). Private investors and traders can trade, using these prices.

People should understand that modern stock exchanges have turned into large trading computer systems. Ten years ago a phenomenon emerged, which became known as High Frequency Trading or HFTHFT is the generic term for a number of stock activities, for which sheer speed is of the utmost importance.

Actually, we still do the same as 25 years ago: we supply the market with liquidity, by setting bid and offer prices through a screen at the stock exchanges. Flash trade is the Dutch moniker for HFT. A better name would be ‘Computerized Trade’.

Stock exchanges have turned into large computers. Everybody who is trading at the stock exchanges, does so via a fully automatic computer system. Few people realize that. Brokers use algorithms to execute their orders for their investing customers. Traders use algorithms to supply the market with liquidity.

Paul: What have been the consequences of this paradigm shift?!

Remco: One of the undeniable results is that the expenses for stock transactions have been spectacularly reduced. This is the consequence of the radically increased efficiency: in earlier times when orders were executed through telephone calls, one's stock order went through the hands of four to five people, before the transaction was completed. 

Nowadays, an investor enters his order in an online trading screen of f.i. Dutch online broker Binck Bank. After this person has finished it, this order is immediately forwarded to the trading system at the stock exchange. With just one or two mouseclicks. The efficiency gains have been enormous.

We got rid of the high commissions for stock brokers and other intermediary people. As a consequence, the spreads between the bid and the offer price have never been so narrow. For a < €10 stock, the spread is only one tenth of an euro cent. This is spectacular!

Ernst: I remember hearing in a documentary about so-called ‘priority orders’, coming from certain HFT market parties. These priority orders would be executed with precedence upon normal orders from common private and corporate investors.

This order kind seemingly enabled HFT traders to act as a ‘hidden intermediary’ between the stock exchange and the private / corporate customer that wanted a certain stock. 

Their trade was akin to a ticket office, which bought all tickets for a U2 concert in advance and resold them to the normal concert visitors with a certain margin upon the price. Does this kind of business also exist in The Netherlands?!

Remco: I am definitely aware of the discussion. We are also really active in the United States. I object against the accusations that Haim Bodek made in that documentary. All existing order types have been published on the websites of exchange supervisors. Ergo: there are no hidden or secret order types in the system. 

However, the American stock system is extremely complex. Many of its complications do not exist in Europe. The regulations for HFT trading in the United States have been written ten years ago. Within one-and-a-half year, new regulations for HFT trading will be deployed in Europe. The process of legislation is in full motion, due to the continuous changes within the stock market. 

It was originally a floor market with brokers and traders, in which many people were physically dealing with stock orders. Nowadays, the stock market is fully electronic; the legislation and regulation must be adjusted to that change, in order to let the business work as good as it did in the past.

Paul: Speed has always been paramount, right?!

Remco: Oh yeah! Speed has definitely been paramount: now and in the past. The market maker who called the bid and offer price first, was the one to execute the transaction. I am competing with large option brokers and market makers, like Optiver, Flowtraders and many others. 

That is the reason that I want to call the bid and offer price as soon as possible, as I know that I will get the transaction then.

This speed enables me to let the spread between bid and offer price be extremely narrow these days. Never in history, this spread has been so narrow as today. Speed allows this process.

“We” – aka the Dutch – have been very progressive and innovative with respect to fully computerized HFT, as we realized that this operation required radically different skills and competences than the floor trade did.

Ernst: Would the European transaction tax mean the end for the HFT trade in continental Europe, due to the fact that the whole HFT industry would move to the London City?!

Remco: Politicians represent High Frequency Trade as something negative, which it is not: “HFT is bad and unfair”, they state.

The transaction tax is used as a means to target HFT traders. The eleven EU countries, participating in the transaction tax proposal, want to collect €35 billion with this tax. This is a multiple of the amount that people and companies actually earn within the HFT market.

In the end there will be only one party, which is footing the bill: that are the savers. The Netherlands has the largest pool of savers in Europe, so for our country this is about the worst development possible!  

Paul: Really, Patrick Fleur?!

Patrick Fleur: When this transaction tax will be declared applicable to all varieties within the generic term HFT, I am indeed afraid that a substantial part of my liquidity will vanish. This would widen the spread between the bid and offer price, causing that the participants have to foot the bill for the additional expenses.

F.l.t.r: Patrick Fleur of  PGGM Investments 
and Remco Lenterman of IMC Financial Markets
Picture copyright of: Ernst Labruyère
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Paul: Is it correct what Michael Lewis states in his book "Flash Boys: a Wall Street Revolt", that the HFT flash trade is a legal kind of frontrunning?!

Remco: For me, this is almost a scandalous accusation. This accusation has actually been denied by the regulators. Michael Lewis states that some traders can see the stock orders of investors before they actually enter the stock market. I don’t know a single stock exchange anywhere in the world, where this is possible. There is no frontrunning (i.e. prescience) here.

I will explain the phenomena of colocation: the stock exchange computer is stashed in a datacenter near the stock exchange. In the early years of electronic trading, we noticed one day that our company was structurally lagging to the London and Paris marketmakers, who had their computers very close to the ‘floor’ of the stock exchange. Due to the physical distance, we had a disadvantage.

Since that moment, the stock exchanges offer colocation: this enables us and other marketmakers to put our computers next to the computers of the stock exchange itself. This means that every party sees the stock data at the same moment again. This colocation offers a level playing field to every trader and stock broker. As a matter of fact, all brokers have their computers in the same datacenter nowadays.

Marco Groot: Even today, I have spoken to people in the business, who are stating the contrary. 

As soon as they place their orders, the liquidity vanishes… I actually went through it myself: one enters an order and notices that the liquidity has vanished in the meantime. 

I cannot prove that the things that Michael Lewis states are actually true. However, when you are able to check somebody else’s stock order in advance or even when you have just a few milliseconds in advance, the level playing field is gone. Besides that, a market maker enjoys favourable expense rates and also some HFT traders enjoy those favourable rates.

Marco Groot, former investor and column-writer at
Het Financieele Dagblad
Picture copyright of: Ernst Labruyère
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Remco: The latter is not true. We almost always pay equal prices. 

I have only an advance when I have a market making obligation: for instance in the case of options and ETF’s (i.e. exchange traded funds). For 99% of the time, I am obliged to set bid and offer prices. Our achievements and performance in this matter are assessed. 

With normal stock packages, we pay exactly the same amount in expenses as common, large stockbrokers. It could even be true that these brokers pay lower prices, due to their larger trade volumes.

‘Fake liquidity’ is a problem on a fragmented market. 

In the US, as a matter of fact, there are 14 stock exchanges at which we [IMC Financial Markets – EL] are setting the prices. We set the same price everywhere. 

When – for instance – we set a price of 21 bid and 22 offer for Intel stock and we set this price on stock exchange ‘A’, then it can happen that somebody else sets a price of 22 bid and 23 offer on stock exchange ‘C’ in the meantime. 

In this case I am obliged to change my quote again. This modus operandi enables that the stock quotation has only a spread of one cent.

Every now and then somebody tries to take all offers on a certain stock from all exchanges at the same time. When he goes to exchange C first and this offer has gone in the meantime, then I will adjust my prices. Then this person can be too late [at another exchange - EL].

Corné: It also happens in Europe. 

During the execution of an order, the liquidity is gone at the exact moment that I want to hit. You state, for instance, that you want to buy for 22 and I say I want to sell for the same price. 

When I subsequently want to make a deal, you state “I am sorry, but I’m gone in the meantime”. That is when you get fake liquidity and that makes me angry.

Corné van Zeijl, Fund manager of SNS Dutch Stock Fund
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Remco: When I have placed a bid of 22 at Euronext and you want to sell your stock for that price, then there is no way that I can strike that bid.

Corné: Yet, it happens!

Remco: In that case, I really don’t know what happened with that order and if perhaps somebody has seen it in advance?!

Peter Paul de Vries: In case that such excesses would indeed be possible with HFT trading, would you think that people, who had discovered these anomalies, would work at the supervisor's office?! Or with a firm like yours or like your competition?!

Peter Paul de Vries, CEO / Founder
of Value8 Investments
Picture copyright of: Ernst Labruyère
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Patrick: Fortunately, more and more smart people do start to work at the Dutch supervisors DNB (i.e. Dutch national bank) or AFM (Authority Financial Markets). 

By the way, I know for sure that there is fake liquidity in the market. I don’t state, however, that this happens at companies specialized in market making: such actions would kill their own business. On the other hand: I do think that there are other firms active, who do use fake liquidity in an inappropriate way.

Remco: We are trading at 100 stock exchanges worldwide. Every stock exchange where we trade, is maintaining its own supervision. On top of that, there are 10 globally operating supervisors, who are supervising our actions. 

No market is as transparant as this market. Every transaction that we make can be found at Yahoo Finance the next day!

Marco: I am convinced that there are scoundrels walking around in the world, who can check out other people’s orders through a backdoor operation and who can create this fake liquidity. Otherwise I can’t explain that when I enter an order, the liquidity has suddenly vanished without a trace.

Undisclosed journalist in the audience: How does this fake liquidity work? How can orders be entered initially and subsequently been withdrawn?!

Remco: Not one single stock exchange offers this facility.

However, it can be – as a consequence of the fragmented stock trade – that a broker offers his shares at all stock exchanges. When he initially goes to "Tri-ex" [I don’t know the exact name of this stock exchange – EL], as this offers the lowest trading prices, and subsequently enters Euronext, it could happen that a market maker has changed the quotes in the meantime. 

However, when some parties, active in the HFT market, could structurally look into somebody else’s orders before these orders enter the stock markets, this would be something that we would notice too.

Corné: These days, it happens on occasions that you can’t do any business at all. At no single stock exchange!

Remco: I have noticed that phenomenon. Sometimes it happens that a certain investor is asking a quote for a certain fund. While we are setting the price, we notice then that the fund quotation is suddenly rising. This could mean that the investor is buying himself or that he asked another market maker for a quote. This process can’t be suppressed or stopped.

The added value of HFT is the following: when we would take a rain check and put our computers off line for one day, then every investor would get a worse quotation, as a consequence of much larger spreads. 

In other words: it is a no-brainer that we have a lot of added value for general stock trade.

This discussion was the absolute highlight of this week's BNR Newsroom. If you speak or understand Dutch, don’t hesitate to listen to the integral broadcast of BNR Newsroom on the site of BNR Newsradio. 

Paul van Liempt and his guests are always a good listen and this episode was no exception.